The Market Is Shrugging Off Sequestration - For Now

As the so-called sequestration approaches, jitters among defense contractors are becoming quite visible. 50% of the cuts are expected to hit the Pentagon budget. States like Virginia, where the defense industry is a major portion of private employment as well as a key source of tax revenue, are also becoming uneasy.

Source: ABC News

The markets however seem to be shrugging off the impact of sequestration. Over the past few months (including the post-election period) a basket of major defense stocks has performed in line with the S&P500. And in spite of sequestration's overall negative impact on the GDP, the broad market is near multi-year highs.

Source: Ycharts

Market expectations seem to indicate that these cuts will be avoided - possibly at the last minute. For now however it looks as if sequestration may potentially go into effect.

Bloomberg: - Democrats and Republicans in the U.S. Congress are nowhere near a plan to avert $1.2 trillion in spending cuts about two weeks before they are set to begin.

It’s the latest in a series of fiscal deadlines created by Congress that in the past two years took the U.S. to the brink of a debt default, a government shutdown and middle-class tax increases that neither party wanted. Unless lawmakers act, the across-the-board spending reductions will begin March 1.

Leaving the cuts in place would shave U.S. economic growth this year by 0.6 percent and cost 750,000 jobs by the fourth quarter, Congressional Budget Office Director Doug Elmendorf said yesterday at a hearing.

About half the cuts would affect defense spending, and military leaders are pressuring lawmakers to avoid them. Allowing the reductions, known as sequestration, to take effect would mean less training for Army personnel and fewer purchases of Navy vessels and Air Force fighter jets, the leaders said.

“It’s pretty clear to me that the sequester’s going to go into effect,” Senate Minority Leader Mitch McConnell, a Kentucky Republican, said yesterday.

And it seems that a number of politicians actually want to see sequestration activated.